Yelp: MKM Refutes Short Thesis on Churn, Tiny Market

By Tiernan Ray

MKM Partners‘s Rob Sanderson today reiterates a Buy rating on shares of local listings and reviews provider Yelp (YELP), and an $86 price target, writing that investors lately have probed his thoughts on what the company’s total addressable market may be, given what appears to be high churn for use of the service, and a relatively small potential user base overall.

Sanderson notes short sellers have been critiquing the business this week: “Tenants [sic] of the thesis, as explained to us by investors, are claims that: (1) YELP has “absurdly” high churn, losing around 90% of its customers annually and (2) the total addressable opportunity of potential customers is not in the millions, but only 170k.”

Sanderson refutes both notions. On churn, he points out that the company actually doesn’t disclose churn, but rather a unique metric that can be mis-interpreted:

The company reports “customer repeat rate,” the percentage of customers during a quarter that were also customers in the immediately preceding 12-mo period. Repeat rate has been in the low 70% range since the IPO (spiked to 75% in Q1). This is not a conventional churn metric and can not be used to impute rate of customer attrition. We believe this is a source of confusion and is being incorrectly used as a primary input behind suggestions of high customer churn.

As for addressable market, the back-of-the-envelope math suggests it’s larger than people think:

Cohort 1 (2005-06 market launches) represents 21% of +250k population U.S. cities. If 170k is really the local business TAM, cohort 1 was 65% penetrated after Q1. Growth in revenue from cohort 1 was 61% in Q1, a meaningful acceleration from 50% a year ago. Markets that are at 65% penetration do not demonstrate growth acceleration, they decelerate substantially and they certainly do not grow over 60%. Math also suggests that YELP can not have high rates of attrition unless the TAM is very significantly higher. High churn businesses run out of room quickly in a narrow TAM. Markets that are 8-9 years old and demonstrating growth acceleration suggest that full penetration of TAM is a long way away.

Upshot for investors, he writes, is that “The stock has rebounded from extreme collapse in growth multiples during March/ April.”

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There are 4 comments

JUNE 27, 2014 1:09 P.M.

jd wrote:

I'm sorry, YELP may be a good stock, but the MKM endorsement is enough for me to shun any position they recommend.

JUNE 27, 2014 1:14 P.M.

Lizard King wrote:

To the writer: "Tenets" of the thesis, not "Tenants"...(second sentence, second paragraph)

JUNE 27, 2014 1:16 P.M.

Tiernan Ray wrote:

Lizard King: Indeed, you are correct, the typo is in Sanderson's own text.

JUNE 27, 2014 1:46 P.M.

Anonymous wrote:

A ridiculously valued stocks by any measure with a very weak business model. It's been documented that at least 20% of reviews are bogus if not more. Who pays for a service that is offered free in numerous other places.

About Tech Trader Daily

Tech Trader Daily is a blog on technology investing written by Barron’s veteran Tiernan Ray. The blog provides news, analysis and original reporting on events important to investors in software, hardware, the Internet, telecommunications and related fields. Comments and tips can be sent to: techtraderdaily@barrons.com.